Relative importance of asset allocation versus security selection in South Africa

Abstract

The relative importance of the asset allocation decision versus the security selection decision in the investment process has been the subject of fierce debate over the last two decades. There is a common misconception that the asset allocation decision is the more important decision between the two. This misconception was created by a study that assessed the level of active asset allocation decisions taken by investment managers of a specific sample group of retirement plans, relative to their respective benchmarks. This research employs an alternative methodology to assess whether the asset allocation decision is indeed superior to security selection in the investment process. The main finding of the research is that while the security selection decision may generate a wider dispersion of returns than the asset allocation decision, which could imply greater importance, it is at the expense of greater risk. On a risk-return basis, relative to a benchmark, there is no evidence that either decision has a greater importance in the investment process.